‘Heart-stopping, pants-dropping, eye-popping, jaw-dropping, hair-raising, eyes-glazing, mind-blowing, juices-flowing.” Paraphrasing Bruce Springsteen's introduction of his E Street Band at its Rock and Roll Hall of Fame induction also aptly characterizes the fury surrounding CEO compensation. Gravity-defying and mystifying, pay for top executives has shot up; today the typical CEO of a Fortune 500 firm “earns” on average $15 million. In a 1982 issue of Directors & Boards we asked in a lead article, “Is Any CEO Worth $1 Million a Year?” Today, almost any CEO is apparently worth $1 million — a month!
According to the Washington-based Economic Policy Institute, from 1978 to 2013 U.S. chief executive compensation, adjusted for inflation, rose almost 1000%, vastly more than the 10.2% increase in the average American worker's pay. In 2013, the average U.S. chief executive earned nearly 300 times as much as a typical American worker. Fifty years ago this ratio was 20. Furthermore, several studies, such as a recent one at the London School of Economics, have shown only a weak, if any, correlation between executive pay and corporate performance.
Many investors, academics, consultants, and increasingly directors think the executive comp system is “broken.” Some are calling for fundamental reforms. In late April the Securities and Exchange Commission took some modest steps to reform the system. The SEC proposed new rules requiring the approximately 6,000 publicly traded companies to inform shareholders, “in a clear manner,” how well top executives' compensation tracks corporate performance.
An outgrowth of the 2010 Dodd-Frank financial law, this SEC proposal is the latest attempt to strengthen an investor's ability to understand executive pay practices. Coming on the heels of “say on pay” rules that require companies to periodically submit exec-comp packages to a nonbinding referendum, this latest proposal is intended to help guide shareholders both on say on pay votes and director elections.
According to SEC Chairwoman Mary Jo White, the new rules would give shareholders “a new metric [total shareholder return relative to a peer group] for assessing a company's executive compensation relative to its financial performance,” although she questions whether it is “the optimal measure of financial performance.” But the controversial part of the 2013 SEC proposed rules, namely the disclosure of “the pay gap” between the compensation of the CEO and that of the median-paid employee, is still pending. Much of the business community has vigorously pushed back against this proposal.
Over the past decade there have been some positive changes in the system of executive compensation, notably the CD&A disclosure in the proxy and the direct hiring of pay consultants by the board's comp committee; nevertheless, executive compensation still seems to better serve top management than shareholders. The method of payment remains overly complex, the amount of the payment remains largely unjustifiable, and the disparity in payment remains wildly disproportionate. It's been over five years since I last addressed exec comp; in five years when I look back at the topic, I doubt much will have changed. I expect the figures to be as eye-popping, jaw-dropping as ever.